Wednesday, 17 February 2010

Bloomberg’s Breaking News starts this morning with yet another article on the Goldman interest rate swap, dating back to 2002. I can’t help thinking this is a bit overdone. Is historical forensic accounting now a service offered by the financial media? If so, why don’t they examine the major current issues in Greek debt, such as:

·The massive financial liabilities incurred by semi-governmental organisations such as Hellenic Railways (OSE), or the estimated EUR 700 mln early retirement package rejected by the government for Olympic Airways, and OA’s state aid issue? None of these are on the Central Government's balance sheet, and all are more important financially than this interest rate swap.

· The fact that the government’s numbers in the Stability and Growth Agreement do not add up, even before the recent GDP growth downgrade to -2% in 2009?

· The fact that the freeze in public sector incomes is a limited measure, not a permanent measure, and that no redundancies or productivity improvements are foreseen?

This is not to discount the importance of the Goldman deal. But there have been many other similar deals done, including ones which were more recent.

It seems to me that, judging from market reaction to the Eurogroup/Eurofin’s meetings Monday and Tuesday, and by the quality of the reporting in Bloomberg, Reuters and other sources, that the international media is moving on to other news. On the one hand, this is good, since the quality of their reporting is often very superficial and sensationalist. On the other hand, without the spotlight of international media coverage, and whatever limited investigative journalism it can deploy, will the Greek government take any substantive steps to solve the problem? Can we really rely on European Union monitoring to solve the myriad issues of Greek debt and their underlying causes?

My feeling is that we cannot. The EU has issued plenty of warnings to Greece before: it seems that George Papandreou only really got his act in gear after the WEF meeting in Davos.

Yet the danger in the proposed measures of the government is their temporary nature. The freeze, or reduction on public payroll, is a temporary measure. There are no provisions for an essential reform of the public sector, investments in productivity (including pay), or streamlining the bureaucracy. Indirect taxes have been marginally increased, but it remains to be seen if they can be collected. Some taxes, such as the revised ETAK (which goes by the marvelous acronym of FMAP), remain generous: properties with an “objective value” of EUR 400,000 or under are entirely tax-free.

The total spending impact of the freeze/reduction on public sector payroll has been variously estimated by different sources. According to my own estimate, it will not yield savings of more than EUR 1-1.5 bln, which as a temporary measure is hardly sufficient. Let’s not forget that, however much we dislike the public sector, most official salaries are not that high, and barely constitute a living wage. And what reaction will these worthies take to supplement their income? Probably the same actions they are taking now.

Besides spending cuts, the government needs to improve tax collection. Here, despite initiatives such as audits of doctors and lawyers, the forecast does not appear very positive. What are the taxable results of these audits? How will the government audit over 1 million “freelancers” or independent workers? How will it audit the hundreds of thousands of small shops, hotels and restaurants which depend on tax evasion to round out a fundamentally uncompetitive business model?

These are unanswered questions, and ones of generational importance, and for which real solutions have yet to be found.

Doesn’t Eurostat read the Greek press? This news is nearly a month old. Does the information have to be published in Bloomberg or the NY Times for it to become “news”?

I suppose that, after agreeing to Greek economic statistics for the past 8 years, we can assume that Eurostat does not read Greek news.

How long will it take for the full story to break? And what consequences will this have on the Ecofin and Eurogroup meetings this week, and on Greek bonds? Unless there is a specific commitment to Eurozone purchases of Greek debt (probably on a government-to-government basis), then the Athens Stock Exchange will fall still further.

I don’t expect the meetings today to go very well, however. This is death by a thousands cuts: the government has clearly lost control of the information cycle, and is trying to convince its partners that its' debt is really what it has recorded. Unless there is a major financial commitment this afternoon or Wednesday at the latest, this could be "Black Monday" all over again.

Bloomberg started running a ticker this morning entitled “Greek Probe Uncovers ‘Long-Term Damage’ From Swaps Agreements”, which details how the government signed up to a series of long-term interest rate swaps. According to this article, Goldman Sachs was one alleged beneficiary of the swaps, which generated $ 1 bln in 2002.

For me, this article is more interesting because it is the first time I see reference in any serious international press of the findings of the Commission formed by the Ministry of Finance in October 2009 to investigate the true magnitude of Greek public debt. At least, I believe this report (and its follow-up) is what is referred to in the Bloomberg article

Greece used the swaps to defer interest repayments by several years, according to a Feb. 1 report commissioned by the Finance Ministry in Athens.

It’s interesting that Bloomberg mentioned Goldman Sachs, but not Ethniki, which has apparently played a much greater role in exchange rate swaps (over EUR 5 bln).

It’s also interesting that until now, none of the implications of this Commission report, which have been widely reported in the Greek press, have been taken up by the major sources of international economic and financial information. The implications are, after all, severe:

·It is estimate that there are at least a further EUR 6 bln in debt to public healthcare organisations beyond the EUR 6.3 bln already added to the debt in the debt revision of October 2009 (which lead to Greece’s deficit rising to over 12%);

·The Central Government has guaranteed a further EUR 26.2 bln in debt from various semi-government organisations and local authorities which should be stated on the government balance sheet, but is not.

The Commission also points out that it is impossible to estimate current debt due to two additional points:

a.Most social security funds have not yet published accounts for 2008 and 2009. Many other semi-governmental organisations are equally in arrears.

b.The precise level of government expenditure obligations under the raft of public-private partnerships signed during the Karamanlis years cannot be established.

All this means that there is at least EUR 37.7 bln in “known” debt which is not currently recorded. I suspect that there is far more. For instance, the Hellenic Railway Organisation (OSE) has recently been recording annual loses in excess of EUR 500 mln in recent years. The state aid that was to be repaid by Olympic Airways was estimated at EUR 650 mln, while the Karamanlis government also agreed to absorb a further EUR 700 mln in early retirement costs for Olympic staff (which the Papandreou government has recently repudiated).

I would say that a conservative estimate of “off-the-books” debt is at least EUR 40 bln, and quite possibly EUR 50-55 bln, as has been stated in a number of press reports in Greece.

Today the Eurogroup meets to decide what specific steps to take for supporting Greece. My bet is for a government-to-government purchase of Greek sovereign debt at the next debt issue in April (or earlier, if possible). After all, if the rate is 6%, it’s an excellent deal for European governments (some of whom, like France, made good money bailing out their national banks).

But in line with my previous posts, it seems to me that we are only treating the symptoms, not the root cause. The Papandreou government’s proposals on freezing and reducing salaries is good, but it is a temporary measure that will become all the more difficult to maintain as we approach the next general election. The government needs to take urgent measures to streamline and reform the public sector, which include staff reduction, permanently closing some organisations, real privatisation, and stopping the hire of new staff. It also needs to start collecting taxes. All this is known: it remains to be seen whether the government can put together and implement a coherent, integrated framework for achieving it.

Thursday, 11 February 2010

The barrage of conflicting media reports, government announcements, parliamentary debates, European resolutions and other findings has convinced me quite firmly that the right questions on Greek debt are not being asked.

Instead, government sources and the European Union, whether through collusion or simple coincidence, are focusing on symptoms of at least two major root causes, and thus risk delaying their actual solution.

Let’s start with Greece’s Stability and Growth Plan (SGP), which outlines how Greece will reduce its annual deficit to below the 3% limit specified by the Treaty of Maastricht and the European Exchange-Rate Mechanism (ERM). The SGP provides a 3-year scenario for reducing the annual deficit to 2.7% in 2012. The EU’s Economic and Financial Council has formally accepted this plan, but they have not asked the difficult questions, which are:

1.What plan does the Greek government have to reduce the total debt, which is forecast to reach 130% of GDP by 2012-2013, and is twice the limit set under the Maastricht criteria?

2.What provisions has the government made in the SGP for a scenario where the costs of borrowing rise by at least 1.5-2% to the 6.1-6.2% seen in the latest sovereign debt issue?

3.A national commission, with government approval, analysed national finances and found a number of public debt or debt commitments that are presently not included, nor not quantified, in the central government balance sheet. Some estimates have placed the value of this debt at a further EUR 20-55 bln. Does the government accept the validity of the findings of this commission, and what provisions has it made for these liabilities?

4.What short- and medium-term provisions has the government made for addressing rising pensions and healthcare costs and their associated recurring deficits?

5.What are the assumptions and key sensitivities of the SGP in terms of (a) existing and net additions to government staff positions in the period 2010-2012, (b) total wage and compensation benefits as a share of total government expenditure, and (c) debt incurred by semi-governmental organisations such as the former Olympic Airlines or the Hellenic Railways Organisation (OSE)?

6.The next national election will be in 2012 or 2013. What guarantees are there that the government will not depart from the SGP and engaged in the typical process of pre-election electoral give-aways?

These are my questions as related to the SGP. My questions relating to the root causes of the Greek economic situation are the following:

Root Cause 1: Inefficient Public Sector

The public sector and the wider government approach to managing expenditure is the cause of Greece’s massive debt. Government expenditure has ballooned; most expenditure goes to the wages and benefits of an over-staffed and bloated public bureaucracy which provides very little in terms of value-added services, and utilises an archaic system of forms and certificates to extract personal benefits in the form of bribes.

My questions:

a.What is the government doing to streamline the total public sector and deliver better services to citizens at a lower cost?

b.If public sector institutional restructuring, e.g. “Kallikrates”, is to take place, what benefits will this deliver in terms of a smaller and leaner public sector? Besides reducing the number of organisational units, how else can we measure organisational efficiency and productivity?

c.What is the government doing to raise productivity in the public sector, which ranks among the lowest in the European Union?

d.What is the government doing to use e-government as a means for reducing the long hours lost in queues and government organisations?

Root Cause 2: Declining Economic Competitiveness

Over the past 8 years, Greece’s fundamental economic competitiveness has declined according to all international rankings. My questions are:

a.Greece’s credit expansion in the public, private and corporate sectors grew at a higher rate than its GDP growth between 2004-2009. Together with EU funding and government expenditure, the rate of financial expansion has been unprecedented. What have these financial resources been used for, and why don’t we see many positive results today from this spending?

b.By what moral authority does the government violate European Union law by refusing to recognise the validity of private tertiary education, while recognising private secondary and primary education?

c.Greece’s economy is driven largely by three sectors: tourism, shipping and construction (and their ancillary sectors, e.g. catering, building materials, etc.) What plan does the government have to improve the productivity, inward investment and exports in these sectors? What plan does the government have for supporting additional economic sectors? By plan, I mean a coherent vision, objectives, strategy, resources and set of linked activities and policies intended to deliver this vision.

My understanding is that the political leadership has not understood these root causes, and is not in a position to reveal the true extent of Greece’s debt situation. To do the latter, of course, would be to prompt immediate bankruptcy. I would be reassured if, in exchange for accepting the charade of the Stability and Growth Agreement budget, which is incoherent and opaque, the government showed that at least it grasped the fundamental issues at stake. It does not. Instead, it has embarked on a crusade against “speculators”, is providing conflicting messages to different audiences, and shows few signs of taking advantage of this crisis to implement a generational change, or paradigm shift in governance.

According to Goldman Sachs, Greece faces EUR 20 bln in maturing debt in April-May 2010, out of EUR 54 bln in total in 2010. I am sure the government is hoping that by then, the market turmoil will have quieted down. If anything, I believe it will have accelerated, for the reasons already known: central banks have announced the end of quantitative easing; other countries are planning massive debt issue; China’s government regulations on bank lending may have slowed or punctured their economic bubble; Europe may be heading for a double-dip recession.

If Greece passes the April-May 2010 hurdle, then it is still on track for a minimum debt of 130% of GDP by 2012-2013, according to the government’s own budget estimates. This means that it will be facing similar investor skepticism on its public finances every 3-4 months.

Greece does not have the luxury of PASOK’s familiar siren song of international financial speculators, or ND’s vapid posturings about being a responsible party of opposition. It needs real solutions to reduce the public debt which is, as stated, merely a symptom of a generational problem of Greek political governance.

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